astanley said:
Sure. Dallas area is OK. If you're serious, drop me a PM & we'll talk.
What really bothers me is that many "structural" improvements companies undertake make massive inroads in FCF, purely because the costs of consultants, new training, and process optimization require more staff to be on boarded, which directly hits the free cash in the company. Since I look at IT centric companies, what alarms me is that these operational methodologies do not increase what "the street" is looking at - FCF, shareholder equity, or profit, but negatively affects SG&A and the ratio of SG&A to revenue.
Yes, but those costs are a short-term hit, which should lead to long term benefit. If you want to analyze them, take a look at the long term (5+ year) FCF benefit and do a NPV against the front-end costs of consultants, training, and optimization. In other words, treat the initial costs as a capital outlay to gain long term returns (accounting rules generally don't allow you to capitalize it, except in specific instancse). Wall Street eats that up. Look at what happens when companies like AT&T and Lucent announce major layoffs - the stock often goes up even though there are substansial restructuring and severance costs.
The theory is to analyze the short term hits to FCF as an investment against the long-term gains of improved productivity. If the rate of return exceeds WACC, then it will contribute to growth of the company.
Different story if the company mismanages it (e.g. the consultants become permanant, the optimization really isn't, productivity isn't improved, layoffs never happen, etc.).
I was involved in the growth and conversion of a major media company where we installed several nationwide automation systems, that allowed for more efficient operations (and, in theory, better product). The strategy I helped develop largely went out the window when we were acquired. I will reserve comment on how the current management has handled the process other than to note that the market hasn't been kind.
I also did major real estate consolidations where we bought out existing leases or burned them off. The effect is the same - you pay off or write off costs early on, but you look at the lease savings going forward.
I'll note from this point forward this discussion is like a greenhorn working on the decks of a Bering Crabber - it's not pretty and I'm probably doing everything wrong. Programmer doing M&A work here folks, just move along
You're doing fine. If you want a good reading reference on valuation, I can recommend the book "Valuation" published by McKinsey. It's expensive, though.
Of course - and debt load will vary by industry depending on what the market will support and what the cost of doing business is. But while lenders do raise the cost of the debt, I personally believe that the costs of debt are undervalued because of the loose fiduciary policy that is endemic to our economy today. Commercial paper for one company I was looking at (with about 16% debt, very poor cash flow, high SG&A and decreasing margins) was being written at 3%. Bonds floated in a similar time frame were at 7% and 8%. Why is commercial paper so underrated, from a risk perspective? Commercial paper makes up about 20% of their debt portfolio. Arguably the market dictates that this company is a greater risk but commercial paper isn't being written at that rate. That scares me.
That's surprisingly low for commercial paper, unless the company is very highly rated. Typically, the rate for paper is based on the S&P debt rating for a company. "A" rated companies might well be in that range - you will find that top rated companies (like GE) will be fractionally more expensive than US Treasuries, which are considered to be low risk. So, if T-Bills are running 2.8%, commercial paper of 3% on high rated companies is not unexpected.
There are two other things that affect the cost of paper. One is term, the other is collateral.
Short-term or floating-rate paper will generally be pretty low. Investment-grade companies will generally be issued short-term paper at Libor plus a small fraction. My former employer was something like Libor + 0.25 on the short term debt, while the long-term and fixed paper was between 4% and 8%. The 8% stuff was inherited in an acquisition, and it was too costly to retire. Most companies have a mix of fixed and floating rate.
Collateralized paper carries a lower rate because of the collateral. In the recent real estate market, any paper that was collateralized by real estate would carry a pretty low interest rate because the real estate was appreciating. For example, we did vehicle leases based on a stated interest rate of Libor + 3/8 or 1/2. Because of the payment structure of the leases, the leaseholder had sufficient collateral to go forward. Risk was minimized with the floating rate.
Someone I worked with said - "The best corporate salesman can overvalue his company, saddle them with debt, and convince the market paying a premium for a dead pig is the best idea, all while increasing the stock price and his own compensation package".
My favorite term is "slap lipstick on that pig, and get it on the street". A friend from Oklahoma uses the term "looking up a dead mule's *$$".
Some management really thinks the synergy is going to happen. More often than not, it doesn't. Exception: acquisitions of companies/product lines that can be produced on spare capacity on existing lines.
You never lost me - got foggy on WACC until I looked it up - but this was highly educational. Again, I'm a ex programmer who does business development and some market analysis; this is all completely foriegn to me and I've yet to develop a "feel" for evaluating the marketplace.
I'm in Plano late October, over a weekend no less. We should get together if it is at all possible...
That would be great, I'd like to do that. PM me with dates, and I'll stick 'em on the calendar.
I've been doing this a number of years, yet even now I have to shake my head at some of the stuff I see.
best
bill
than the marine unit. Database and possible minor software changes don't come close to justifying that.
